Fallout Continues Over Banking Sector Woes, Forced Mergers

January 23, 2009 at 6:10 PM EDT

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In the midst of September's Wall Street meltdown, Bank of America agreed to buy the troubled Merrill Lynch -- a buyout that has proved troublesome. Analysts assess what may come next for the struggling industry.

TRANSCRIPT

JUDY WOODRUFF: When the financial crisis broke into the open in September and Lehman Brothers collapsed, the government and many investors on Wall Street were happy to see a shotgun marriage of two financial giants to avoid another bankruptcy.

In a time span of less than 48 hours, Bank of America agreed to buy the troubled Merrill Lynch. Afterward, both CEOs publicly praised the deal.

JOHN THAIN, CEO, Merrill Lynch: The fact that we can put this transaction together basically in 48 hours I think is a great statement on the strengths of both of our teams, but also the great strategic fit which, from the instant we talked, was very, very clear that this transaction made a lot of sense.

KENNETH LEWIS, CEO, Bank of America: The combined company is a much stronger entity and will survive most anything as a result of the combination.

JUDY WOODRUFF: Since then, however, the combination of the two firms has hardly been smooth. Bank of America’s stock value is down more than 80 percent. Merrill Lynch’s losses have been much deeper than expected.

And yesterday, Merrill’s former chief, John Thain, was forced out from his job at Bank of America. That came amid a series of news reports that Thain paid more than $4 billion in bonuses to Merrill employees just days before the deal formally closed and that he spent more than a million dollars last winter to redecorate his office, including more than $87,000 on a rug, $68,000 on a credenza, and $1,400 on a waste can.

The reports caught the attention of President Obama, who mentioned it earlier today.

U.S. PRESIDENT BARACK OBAMA: The recovery package that we’re passing is only going to be one leg in a — at least a three-legged stool. And some of the reports that we’ve seen over the last couple of days about companies that have received taxpayer assistance, then going out and renovating bathrooms or offices, or in other ways not managing those dollars appropriately, the lack of accountability and transparency in how we are managing some of these programs to stabilize the financial system, those all have to be part and parcel of a reform package if we’re going to be responsible in dealing with this economic crisis.

Congress frustrated with results

Michael Santoli

Barron's

... it seems as if Bank of America was, if nothing else, embarrassed by the series of news reports not so much about the office renovations, but about the bigger losses that were taken right before the close of the merger.

JUDY WOODRUFF: For more on this story and the questions it's raising, we turn to Mike Santoli, an associate editor and columnist at Barron's magazine; and John Coffee, a professor of law at Columbia Law School. He's the director of the school's center on corporate governance.

Thank you both for being with us.

Mike Santoli, to you first. Why was John Thain forced out just four months after he persuaded Bank of America to swallow Merrill Lynch?

MIKE SANTOLI, Barron's: Well, it seems as if Bank of America was, if nothing else, embarrassed by the series of news reports not so much about the office renovations, but about the bigger losses that were taken right before the close of the merger and, in fact, that Bank of America had to go to the government, essentially, and get more help -- or at least the promise of more help -- to actually close the deal.

So it wasn't as if there was a specific accusation, I don't think, that John Thain knew that the losses were going to be deeper and withheld the information, but simply that you had two large reputations at the top of a very troubled firm, and it seems as if Ken Lewis wanted to make a gesture and maybe deflect some of this negative attention.

JUDY WOODRUFF: Well, we'll talk about the losses in a minute, but the fact that he paid $4 billion in bonuses, that John Thain did, just a few days before the end of calendar 2008 when this merger was going to take effect, how does he explain that? What is Merrill saying about that?

MIKE SANTOLI: Well, my expectation would be that Merrill -- of course, Merrill is not speaking as an entity itself anymore, but it would say bonuses are essentially the promised compensation of our people. Right or wrong, it's the way Wall Street compensates folks. It's not some kind of gravy.

So if you didn't give bonuses or at least you left it to the folks at Bank of America to decide whether you got bonuses, it's equivalent to a 50 percent or 60 percent pay cut.

My guess is John Thain would say, if we actually want to retain people here that we genuinely want to keep within this company, then we actually have to pay it, but it does not look good that he seemingly preemptively paid those bonuses before the close of the deal.

JUDY WOODRUFF: John Coffee, whether it was the way business was done or it was expected to be done on Wall Street, how does it look to the rest of the country and to someone like you who studies corporate governance?

JOHN COFFEE, Columbia University Law School: Well, I think there are two different perspectives. There's the perspective of Bank of America, and there's the perspective of Congress.

From the perspective of Bank of America, it's a classic large commercial bank which tends to be a rather bureaucratic institution. And there's a real cultural clash between commercial banks that pay lots and lots of vice presidents the same salary as other corporations and an investment bank which had a kind of prima donna system where many people were paid the same as a seven-foot center on an NBA championship basketball team.

And that's the world in which I think the old-fashioned investment bank is going to move off-stage and we're going to see a new puritanical approach to costs and expenses.

The bigger problem, though, is Congress's frustration. They have been pumping hundreds of billions of dollars into financial institutions, expecting that some of this money would come out in the form of mortgage loans and assistance to consumers, but banks understandably don't want to make high-risk loans. Therefore, they're not eager to make all of the loans that Congress wants.

Both banks and Congress can jump in and get very excited when they see the federal taxpayer's money being spent instead on extremely high bonuses to investment bankers which much of America believes was already highly overcompensated.

Questions over Thain's ousting

John Coffee

Columbia University Law School

The disclosures about the offices are kind of a symbolic humiliation that Bank of America is inflicting because they were very unhappy. They are mad.

JUDY WOODRUFF: Well, before I ask you a little bit more about Congress's decision in all this, back to you, Mike Santoli, on this $1.2 million that John Thain spent to redecorate his office when he first came to Merrill Lynch. What's the story behind that?

MIKE SANTOLI: Well, obviously, without knowing how much detail he was in control of with that expenditure, obviously, there's tone-deafness there. This was back in late 2007 when he was hired at a time when, again, perspectives are blurred here by many, many good years leading up to this, when a million dollars within a Merrill Lynch that you assumed was always going to be there was, unfortunately, not considered a huge amount of money.

It's still egregious, I think, by most any rational standard and, in fact, out of character with much of what we thought we knew about John Thain as a kind of a technocrat, a relatively modest personality within a few financial institutions he's worked at.

But clearly this was not the thing that he wanted to be known for or the company wanted to be known for. Of course, you also have to ask how those details started coming out just as Bank of America wanted him to leave the company.

JUDY WOODRUFF: Well, and to you, John Coffee, on why John Thain was pushed out, do you pretty much agree with what Mike Santoli has said, that it was because of the losses more than anything else rather than these other -- the bonuses and the redecoration?

JOHN COFFEE: Definitely. The disclosures about the offices are kind of a symbolic humiliation that Bank of America is inflicting because they were very unhappy. They are mad.

In their view, Merrill Lynch and Mr. Thain breached a duty of candor that they owed to Bank of America to fully disclose just how enormous these losses were going to be. And Bank of America only found out about those losses through their own transition team, not through Mr. Thain.

As for the payments, the $4.1 billion bonuses, not only were they paid, they were accelerated. They were scheduled normally to be paid the last week in January. They were instead paid on December 29th, just three days before the merger occurred, and I think it's fairly clear that they were paid in that accelerated fashion because the moment Bank of America took control, they would have scaled down those bonuses and maybe simply prohibited them.

Illegality of Thain's Activities

Michael Santoli

Barron's

I think the company and the board is going to want to look to move on from this entire period where Ken Lewis has been there mostly buying big companies and making the bank very large, but right now not particularly steady.

JUDY WOODRUFF: John Coffee, any legal question about what Mr. Thain did?

JOHN COFFEE: Really, he probably had the authority of his board of directors. I don't think this is fraud. And I think he had a business purpose. As was said earlier, it is a problem for Merrill Lynch. How do you retain personnel that are used to this contingent bonus compensation?

And there was a problem. Several Merrill Lynch high-ranking executives had already left. So he had that concern, and he had a concern that maybe, if all of the losses were disclosed, that would result in the deal being called off, as many institutional investors wanted it to be called off.

I think the only area where there's a legal problem here is whether he failed to disclose adequately the amount of these projected losses, because that can get the SEC concerned, whereas I don't think they care that much about the office remodeling expenses or the bonuses.

JUDY WOODRUFF: Mike Santoli, quickly back to you. Where does all of this leave Bank of America?

MIKE SANTOLI: Well, it still leaves them, along with the other very large banks, in a pretty precarious position, simply because of the worsening of the economy. What seemed like a deal that was going to give it stability has now actually added a lot more risk inside this company. It also has absorbed Countrywide.

It really is sort of right on the edge of many of the biggest, riskiest exposures in the economy right now. It's really much more about how fast the economy worsens than it is about -- and about the next step in the government financial rescue package than it is about the Merrill Lynch deal at this point. You have to look forward.

JUDY WOODRUFF: And what about Mr. Lewis, Kenneth Lewis, the CEO of Bank of America?

MIKE SANTOLI: Well, you know, I think he only has a couple of years until a mandatory retirement at 65, but, clearly, I think the company and the board is going to want to look to move on from this entire period where Ken Lewis has been there mostly buying big companies and making the bank very large, but right now not particularly steady.

Congress may grow stricter

John Coffee

Columbia University Law School

Congress is very frustrated that the money they're putting into these banks is not coming out in a way that benefits the consumer or the mortgagor.

JUDY WOODRUFF: John Coffee, to come back to your earlier point about the Congress and how it views all this, big decisions now facing the president, his administration, and Congress about what to do about the banks. How does this episode, do you believe, affect some of the decision-making that has to come in the days ahead?

JOHN COFFEE: Congress is very frustrated that the money they're putting into these banks is not coming out in a way that benefits the consumer or the mortgagor.

And I think this will be the kind of symbolic issue that may push them to in turn put more conditions on any further bailout money and require the banks to adhere to some kind of schedule.

And there's a natural tension there, because banks understandably don't want to make risky loans, but Congress doesn't want to subsidize banks simply to make the banks safe. They want to have some impact on the economy as a whole, and this is going to be the rubber meeting the road over the next couple of months.

JUDY WOODRUFF: And just to continue on that point, the administration facing further decisions in the weeks and months to come about whether to push for more bank mergers. They pushed -- were encouraging this merger. We see what's happened. What does that say about future merger policy or attitude toward mergers?

JOHN COFFEE: Well, mergers are really one way of rescuing a failing company that doesn't involve the same destabilizing consequences as the failure of Lehman Brothers. Right now, Lehman Brothers is the worst possible scenario, the worst possible outcome.

So I think the government will want more consolidation in this field, with stronger banks picking up weaker banks, but they're going to be very, very interested in making sure no one gets any golden parachutes or similar bonuses along the kind that we saw in the Merrill Lynch case.

JUDY WOODRUFF: John Coffee, Columbia University Law School, and Mike Santoli with Barron's, thank you both.

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